The Truth about Fannie Mae and Freddie Mac

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“If you don’t read the newspaper…

If you’ve followed Fanniegate for some time, you’re well aware that any time anything positive happens relating to Fannie and Freddie there will invariably be a negative article or response by a) a “journalist,” b) an “industry expert” or c) by a paid-for politician.

All of these folks have one thing in common; they do not want to see Fannie and Freddie succeed.

The “journalists” either work for a company that has taken a political/financial position (advocacy journalism) or some of these reporters are motivated by their ability to gain access to high government officials to interview for their articles… providing the reporters write the news (spin) in the officials’ favor (access journalism).

Oftentimes the “industry experts” are merely promoting the position for their clients…plain and simple.

Bought politicians are even easier to understand…

For those of you that are relatively new to Fanniegate, it is important to know that there are credible, respected people on the other side of the discussion.

One of these people is Gretchen Morgenson, Pulitzer Prize-winning financial reporter from the New York Times. Gretchen was the first mainstream media reporter to write an unbiased article on Fanniegate.

In February 2014, Gretchen wrote “The Untouchable Profits of Fannie Mae and Freddie Mac” which effectively broke the silence with major media. In this article, she highlighted the discovery of a secret government memorandum that outlined their plan to undermine shareholders:

“Furthermore, nationalization would have required the government to provide compensation to shareholders for what it took. Now the government gets the benefits of the companies’ profits while avoiding any compensation payments.”

Gretchen even made news when she addressed the issue of access journalism in a presentation at the 2015 Page One Awards:

“My second issue is closer to home — and it concerns the state of journalism today. That is, the rise of access journalists — those whose stories help their hidden sources promote themselves and their views — and the decline in accountability journalists. These are the folks who seek to hold powerful people responsible for their actions. Who, as the saying goes, seek to afflict the comfortable and comfort the afflicted.”

Gretchen’s presentation at this awards ceremony even addressed Fanniegate with her acknowledgement of unusual circumstances of the government secrecy:

“In response to the lawsuit, the government has demanded an extreme level of secrecy surrounding documents the judge has ordered it to produce. Those documents would shed light on how the decision to divert the profits was made, an important question given that the 2008 law written by Congress to handle the company’s problems was supposed to stabilize them and let them build up capital after the crisis receded.”

Gretchen is the lead, major journalist that has written the most articles regarding the saga involving Fannie Mae and Freddie Mac. Highlights of Gretchen’s articles are as follows:

“The August 2012 profit sweep surprised investors, but documents show that it came long after Treasury officials had indicated privately that they wanted to ensure Fannie and Freddie shareholders would receive none of the companies’ future profits.”

“Further testimony unsealed on Monday came from Mario Ugoletti, a former Treasury official who was a former special adviser to the director of the Federal Housing Finance Agency, the conservator overseeing Fannie and Freddie.

In December 2013, Mr. Ugoletti signed an affidavit for the case stating unequivocally that neither the Treasury nor the Federal Housing Finance Agency envisioned that the companies’ deferred tax assets were about to be reversed in the months leading up to the profit sweep, generating huge profits. He also said that the move was not intended to “increase compensation to Treasury.”

But in the deposition in May, Mr. Ugoletti said he did not know whether the Treasury or the Federal Housing Finance Agency officials knew about the potential for the profits at Fannie and Freddie at the time of the sweep.

Mr. Ugoletti, who left government in the fall could not be reached for comment”.

“An email from Jim Parrott, then a top White House official on housing finance, was sent the day the so-called profit sweep was announced. It said the change was structured to ensure that the companies couldn’t “repay their debt and escape as it were.”

The documents also show the Treasury moving to modify the terms of the mortgage finance giants’ $187.5 billion bailout shortly after a July 2012 meeting when the Federal Housing Finance Agency, Fannie’s and Freddie’s regulator, learned that they were about to enter “the golden years” of profitability.

“The government initially argued that it acted to protect taxpayers from future losses because the companies were in a death spiral, but the decision to funnel the profits into the Treasury’s general fund came just before Fannie and Freddie returned to profitability.”

“When the government changed the terms of their bailouts in the summer of 2012 and began expropriating all of Fannie’s and Freddie’s profits every quarter, it seemed as if that unsatisfactory setup would go on forever. After all, it is hard for the government to give up a honey pot that has returned over $60 billion more to the Treasury than the companies received from taxpayers during their troubles.”

If Judge Sweeney were to order the release of more documents, the current administration would probably appeal. It is not as clear that a Trump administration would do so, however. This opens the possibility that all those materials that the Obama administration has fought so hard to keep secret might just emerge.

That would be a huge service for anyone interested in holding government officials accountable for their actions.”

The following articles and highlights were also written by credible journalists:

“Are the gory details of that plan what the government is working so hard to keep under seal?

We may never know. Judge Sweeney has yet to rule on the vast majority of the documents, and there’s no guarantee that she will ultimately unseal the remainder of the material. We may never find out what the government was so keen on keeping secret.

The only thing that is clear is that there’s something odd going on, with the Obama administration asserting privilege over a volume of papers so large, it would make Nixon blush.”

“Yet on Aug. 17, 2012—about 10 days after the terrific second-quarter results were announced—something singular happened. For reasons that remain shrouded in secrecy to this day, the Treasury Department and the companies’ conservator, the Federal Housing Finance Agency (FHFA)—two arms of the same government—agreed to radically change the terms of what the GSEs would owe in exchange for the moneys they had already received.

“Rhetoric aside, conservatorship is supposed to be governed by the law, which in essence says that the conservator must either “preserve and conserve” the GSEs and release them back, or throw them into receivership, in which case their assets would be distributed to shareholders. The investors argue that even a few years after the crisis, there were sufficient assets that the preferred stockholders would have gotten all the money they were owed.

But then on August 17, 2012, a sleepy summer Friday, Treasury and the FHFA changed the rules of the game. Going forward, instead of paying a 10 percent dividend, Fannie and Freddie would be required to send every penny they made to Treasury. If everything went to the government, then there was no value left for investors. Both the common and the preferred shares plunged in price.

The official explanation for this change is that the administration had no idea that the GSEs were about to become so wildly profitable, and so they executed the sweep of profits to prevent the GSEs from owing money they couldn’t pay. The sheer amount of money the GSEs started making immediately following the sweep makes it hard to believe this.”

Attorneys that specialize in these issues have also commented:

Richard Epstein, NYU School of Law, has written several articles on the subject including:

“But no matter which route the transaction takes, the private shareholders are entitled to have a hearing to determine the size of their residual interest under the most elementary principles that insist that no property can be taken without the hearing required as a basic matter of procedural due process.

So the deal is really simple. Treasury took all residual shares for a zero price, and now pleads its own poverty as a defense.”

In a previous blog post here, I highlighted the many articles by Tara Helfman, Yale Law School graduate and Associate Professor at Syracuse University College of Law.

“However, rather than work as conservator to benefit Fannie Mae and Freddie Mac’s shareholders, as is its obligation under traditional conservatorship law, the FHFA acted for the benefit of the U.S. government – and to the detriment of those private shareholders. In a surprise deal, the FHFA effectively wiped out the private shareholders and essentially turned the proceeds of Freddie and Fannie to the U.S. Treasury.”

“A growing chorus of small lenders, affordable housing advocates, civil rights groups and capital market participants have asked that the GSEs’ regulator and conservator exercise the authorities provided him under HERA, and permit the GSEs to build adequate levels of capital so that they do not pose a risk to the public.

These same groups have also asked that once the conservator is satisfied the GSEs are adequately capitalized, the GSEs regulator then begin the process of releasing the GSEs – as required by HERA — from direct government control.”

“None of it seems to make any sense. Under federal statute, the FHFA, as conservator, must, “take such action as may be necessary to put the regulated entity in a sound and solvent condition.” No one has ever given a cogent explanation as to how the original cash drawdowns, and the subsequent cash distributions, including a 100% dividend sweep, serves that goal.”

Again, if your goal is to understand all of the issues related to Fanniegate, you should read as much as possible. Fortunately, there is recent, increased interest and debate over Fannie and Freddie, predominately since the presidential election. Read much and form your own, independent opinion!